Rick Ormsby:

We're going to be talking about just, I've got Derek Ball and Tony Petrunin here. And the three of us are just going to go through probably 15 questions and just chat a little bit and give you some updates on kind of what we're seeing in the end of day market over the past, probably four or five months, which I think is kind of a meaningful shift from what we saw towards the end of 2021, when everyone was just crazy crazy trying to get deals closed. So hopefully you'll find it interesting. For all those people who will listen to this on pod podcast, I just want to say a big welcome, and thank you for listening. I hope you enjoy the content and thank you guys and gals who have joined via webinar today.

Rick Ormsby:

While we wait a couple minutes, I've got a couple of just one kind of major announcement, bear with me it takes a little minute to kind of unravel it, but one of the things when I started Unbridled, I always wanted to do was to make sure we were giving back both with our time when we can, but obviously with our money too, to charitable causes and over the past five years or so, Unbridled has given to back, right out a quarter of a million dollars or so in various to various charities. Most of the time it's been to the restaurant brands and the foundations of the restaurant brands and the deals that we close. But last year, we picked up the Blue Angels fund, which works in concert with the Wounded Warrior project to provide resources, in and outpatient resources for our veterans and our heroes as they come back for war.

Rick Ormsby:

A lot of them have PTSD. So specifically that's one of the areas that they really focus on. My brothers, as many of you may know, both fought in Afghanistan and Iraq and struggled from PTSD. And so it's an area that's kind of an important one for me and I feel strongly about it. And so we support that now when we close deals and also we're going to do a little fun thing and maybe Derek and Tony, you don't know about this yet, but Unbridled, our name comes from a Derby winning horse in 1990. Horse number seven in the Derby. And it's the only horse who have sired a Derby winner and then been the grandfather of a Derby winner. So Unbridled sired Grindstone who won '96 Derby and then Grindstone sired American Pharaoh who won the Triple Crown pretty cool story, right?

Rick Ormsby:

So anyway, starting this year, we're going to say if in the Derby, the number seven horse wins, we're going to give $10,000 to the Blue Angels fund. And if the number seven horse, which is Unbridled in 1990 places, we'll get $5,000. And if it shows we'll give $3,000, and if nothing happens, we'll give a $2,000 donation to the blue angels fund, just for a little bit of fun to support a good cause, too. So, for those of you who are watching, if you're Derby fans be watching for horse number seven, and I hope horse number seven wins, so Blue Angels funds gets a big donation. And if you want to join along, all you got to do is email me and I can get you the information. It's a really cool cause it's called the Blue Angels fund.

Rick Ormsby:

So with that being said, I guess, here we go, I've got 15 questions today. And so, and hopefully we'll just bang through them and spend like four or five minutes on each question, three or four minutes on each question. Question number one, you guys just jump in and I'll look down here as I read some of these. So, it's called, okay, 2022 M&A updates so far, any general comments from the deals that you guys have been looking at and the trends you've noticed? Fire away.

Tony Petrunin:

Yeah, I'll just jump in. This is Tony here. I definitely noticed a strong contrast from where we were last year in terms of deal flow, and I have some people call us and say, okay, well, is it 25 or 50% of what it was at peak, which I would say is 2021. I would say, this feels more like 2018, 2019, and 2020, kind of all averaged together. So it's not as if things have come to a complete trickle, it just feels like a normal M&A year. And there's probably the argument to be made that with as much volume that went through in 2021, we probably borrowed from some of the future transactions that would've occurred and just dragged them forward a bit. And so there's a little bit of a low, but overall, that's my take. What do you say, Derek?

Derek Ball:

Yeah, no, I agree. It's been a fairly slow first few months of the year, as I'm sure anybody on the call, who's getting email distributions from us and anybody else in the industry. It's been a little slower. I think it's picking up just in the last two to three weeks. The amount of inbound calls that we've been getting from potential clients, I think has drastically increased. Tony and Rick, I think would agree. It's not going to be 2021, but it'll be a normal overall M&A year. I don't think it's going to be slow. It's not going to be too busy. It'll be within probably 10% of just a normal year. There is a little bit more uncertainty this year than a normal M&A year with all the stuff going on in the world. But other than that, you can expect just a pretty average deal flow I think for the rest of the year.

Rick Ormsby:

I was taking guys, I like the idea of borrowing from 2021, Tony, I agree with that too. There has been some borrowing of deal flow from 2021. I just counted up our deals. So you guys won't know this until, you'll directionally know this, but we had, at this time last year on this specific day of last year, we had 23 assignments and 19 potential assignments that we were chasing. Right now, we have 14 active assignments and 10 assignments that we're chasing. So, if you just add all that together, the deal flows so far this year probably would be more than half, but less than two thirds of last year at this point. Which again, I mean, we're going to talk more about this as the webinar goes on, but it shouldn't be a surprise.

Rick Ormsby:

I mean, we probably borrowed 20 to 25% of that back in 2021. And then we've had some things that have happened this year, particularly a really slow start to the year with Omicron and kind of slowed things down a little bit. And I've said it in a couple of the podcasts, but it's almost like we needed a thawing of sorts in the industry before the activity picked back up, that's one of the reasons. Yeah, I definitely agree with you guys. And we'll jump into question number two.

Derek Ball:

Shameless plug real quick. I think if I recall correctly, Rick, those 24 deals we had in April of last year, I believe we closed all 24 of those. Right.

Rick Ormsby:

I did look and see, I glanced it.

Derek Ball:

I think I looked at this about a month ago. So a hundred percent of the deals I believe we had of those 24 last year were closed, which is in a year like that, I would say fairly impressive.

Rick Ormsby:

Hey, you trying to say that we're good M&A advisors Derek? Or are you trying to brag? What are you trying to do, man?

Derek Ball:

Shameless plug, as I said.

Rick Ormsby:

That's coo.l. Facts are cool. Facts are cool for sure. Well, yeah. Thanks for bringing that up. Well, the second question might be a little bit like the first, which is what does deal flow look like right now? So take a different spin and answer that question, guys. What do you think?

Derek Ball:

Like I said, first few months of the year was a little slower. We still got some great transactions, like Rick said, we have 14 deals, that's a good, normal deal flow. And our goal is of course, representing those clients and getting those deals done. The first few months of the year, rolling over 2021, a lot of franchisees we're seeing negative comps and thinking it wasn't the greatest time to sell. But we're seeing just in the last few weeks, I bet our inbound calls, Rick, are probably doubled just based on our loose conversations about what's going on. It's probably doubled. So it'll take a month or two for those deals to start hitting the market. But my guess is by the summertime into May, June, July you'll start to see a little bit more deal flow, especially P2 through P5, give or take a period of 21 or kind of record period.

Derek Ball:

So once we start kind of trending off of those P and Ls, level out a little bit, you'll see franchisees, maybe thinking it's a better time to sell. Less uncertainty anyway, if not having to deal with potential declining comps during the deal. So I think you'll see M&A pick up. Outside of other potential factors that impact the rest of the year obviously, if we just stay where we are now, I think you'll see they pick up for the next few quarters. Keep in mind, I'm probably batting less than 500 on my future predictions over the last two years. So yeah, take what I say with a grain of salt.

Rick Ormsby:

Throw it on a dart board and you would've been right or wrong. I mean, I look back at all the things I've said and who would've predicted some of the things that happened? So I've been wrong more than I've been right half the time. How about that? I agree with you. I mean, I would say that a lot of our deal flow has been so far to date this year, some of it's been kind of dragged into 2022 from 2021 where deals felt like at the end of the year, right. Mansion stood up and said, I'm not going to vote for tax increases. So that kind of got taken off the table from a cap gains tax perspective. And so those deals then comfortably started sliding into 2021. So we had a little bit of that effect happening as we started 2022. I think also some brands that have been performing really well, namely Taco Bell, that still has strong comps and decent EBITDA, kind of comp EBITDA on a period by period basis over last year.

Rick Ormsby:

Those deals have continued to come forward and have actually kind of the price has gotten more crazy, but some of the brands that have had more of the comp issues or have seen kind of a big COVID kind of sales adjustment, from a downward perspective, those types of deals in those brands have kind of gone a little bit quiet over the last two or three months, as you might expect, as you might expect. Tony, why don't you take the next one here, which is buyer and seller sentiment. What's going through their minds right now as we're doing deals in April 2022?

Tony Petrunin:

Yeah, I think the elephant in the room is the COVID comp gains, right? You've got some brands who have grown 30, 40% in sales and in a normal year for our space is two or 3% a year, a nice clip. That is success. And so it's in introduced a lot of noise and transactions. I think anyone on this call and anyone listening who's in the M&A space can relate, can you imagine acquiring a business that's gone through that type of lift and then taking it over and wondering if it's going to level out? So there's definitely been an implication. I think the buyers overall there's still a ton of demand. Still a lot of interest in this space. Bond Market yields are kind of deteriorating and pricing is going the same way. Stock market's still quite uncertain as to what's going to happen and how we're going to respond to natural gas prices, oil prices, the conflict in Ukraine.

Tony Petrunin:

So we still see quite a bit of demand. I think the overall sentiment on the buyer side is still high. I think people are being a little bit more discerning, possibly, I would say. And some of the brands that have been really beaten up by COVID positively or negatively, but broadly speaking, we still feel like demand is untouched from where it was last year. On the seller side, I mean, we got to talk about this too. The sellers are just whooped. They've managed through a lot of headache the last six, eight months. Even if you want to go back to the start of the pandemic, they've gone from stimulus, change in presidency, different administration, potential tax policy. Now inflation, labor shortages. I mean, I can go on, right. Some of these things, these people would experience in a decade has been kind of compressed into a really short period of time.

Tony Petrunin:

So I think a lot of sellers are quite exhausted. The good news is they've made a lot of money, made more money than they probably ever have running these stores, but at a cost of probably working the hardest than they ever have in their entire lives. And so we are seeing a lot of people who don't have maybe a second generation in place who are looking at it the next five years and saying, you know what, I've put a lot of money away. My situation personally and financially is quite well right now. Do I really need to keep fighting this battle? And there's a lot of headwinds coming, so it's a little bit mixed, but I'd say it's still pretty strong on the demand side, for sure.

Rick Ormsby:

We had a question that popped up, so Derek you take it. And the question, I mean, it's got, it's a multi-part question. I love it. One of them is, how these deals have... Have you seen bid ask spread gaps when the numbers come in? And I guess now is the time to kind of talk through that as we talk about buyers seller sentiment. I'll make the comment, supply and demand, right? That's always economics 101. Tony, you touched on it. Demand to me, from buyers in the marketplace, seems to be 85%, 90% of what it was. It's close to what it was in 2021, there are big groups that have digested big acquisitions that are pausing, especially if they bought in brands that have had a little bit of performance issue in the first or second quarter of this year.

Rick Ormsby:

But I'd say largely Tony's right. I mean, the demand is there. I mean, we just took a KFC business of only 10 units and had nine offers on it. So the demand's there, it's the supply. And we'll talk a little bit more about this, but it's like in this business, you never really had to time things so carefully and so closely, like you're saying, it's been a crazy time with COVID and values coming up and down and all these external things. But I guess the comment I would make is just that with things moving so quickly, sellers are now kind of over the crest of the wave a little bit. In most brands, valuations, whether it's the multiple, but Don we'll talk more about this or the EBITDA itself or the combination of the two are down over where they were in the end of Q3 or beginning of Q4, whenever that was in the latter part of last year.

Rick Ormsby:

And that is indeed in many cases creating in many brands, a situation where the pricing has come down some and Derek make sure you answer this question too, but I would just make the comment that it's been a good run. I was just penciling a little number here on just a single store example back in 2017. And listen to this, this is a single store. Sales in the store doing 1,200,000, the business we thought was worth about 400,000, the real estate, 1,300,000, and the overall enterprise was worth 1.7 million in 2017. Okay. That was a combination of EBITDA multiples and cap rates and EBITDA and all the assumptions that we make to build into these stores.

Rick Ormsby:

Mid 2021, the store did 1,400,000 in sales. The business value we said was a million, the real estate, 1,750,000, and the overall value $2.75 million, which is over a million dollars higher than 2017. If we project in this case, Q2 trailing 12 month financials in 2022, the sales are 1,350,000, the business is worth 800,000. The states are worth 1.65 million, and the overall enterprise us worth 2.65 million in this case. Okay. So in this case, within the last six months, the valuations dropped 11%. But in the last four and a half years, the business, the enterprise value is up 45%. So it was up 55% last year and still up 45%. And if your operator's been around for 30 years, there ain't no shame in having missed the very crust of the wave, but taking the next best opportunity. You're still up in this case, 45% in the value of your company over just four short years ago, maybe four and a half short years ago. I think that's maybe what we're talking about a little bit. Any comments, Derek? Do you got any comments on that?

Derek Ball:

Just to summarize Rick's comment is if you're thinking about selling, you think you've missed a boat, you haven't. You might not be at a hundred percent, of 2021 value, but you're still significantly above pre-COVID numbers. Short and sweet answer, that's it. It's still a good time to sell. You still have a lot of buyers out there. Tony answered the question, I think really well, buyers are being more discerning about the future. A little bit more cautious about the price they're going to pay. They're still paying strong prices, but maybe that's tapering very, very, very slightly. So, the question is how many deals?

Rick Ormsby:

Well, Derek in your specific example is we just ran a process two days ago, three days ago, right? Where we had first round offers. And then we had second round and one of the buyers dropped out during the sector round because of maybe some of the issues related to what they thought the future might be difficult, may change their view. So that's maybe an example of how, not in every instance, but you started to see, I mean, that was the first time I kind of seen that in a while. Maybe it's isolated.

Derek Ball:

So in terms of the question here, though, how many deals have you seen where the bid ask gaps are out with new numbers coming in? So, I've told this to several people over the last couple months, I think you'll see that throughout the year, our goal at Unbridled is going to be to not be on that. We want to give people realistic valuations. We want to always exceed our valuation to give a client. Our goal is to look at what the buyers are doing, tell sellers what we truly think they can get. And if they don't think what we're telling them is high enough, then go elsewhere. We're not going to try and lock you up for a year and a half if we don't think we can get you a result. So I actually do think you will see quite a few deals this year where the bid ask range are out of whack.

Derek Ball:

And you'll have a seller who wants to sell at 2021 pricing with lower results. And our goal is to not be on those deals. Obviously there's always a fine line to play in this industry, but I think you'll see a lot of deals get marketed this year that don't end up closing, Mike, simply because of what you just said. I think there will be a bit of a gap there. So our goal is to always set expectations with the seller and what we truly think the market can play. And that's why out of 24 deals last year in April, we closed all 24. And that is our goal to close a hundred percent of our deals. And we're always darn close to that.

Derek Ball:

You also had asked if we predict any softening of multiples, I wouldn't be surprised. We haven't seen it yet, but keep in mind, deal flow has been a little bit slow this year. So we don't have 30 deals to compare that question to, but I wouldn't be surprised to see multiples soften a little bit. If you've got a business that's doing six times, maybe it drops to 575, it's not going to crater. We're not going to go from six to five or anything like that. But I could see multiple softening, a little bit of comps remain not great, but keep in mind, I think after about P5, we'll start to see better comps and we'll get the really strong P1 through P5 of 2021 out of the P&Ls. And then we'll see more flat, potentially even up comps. Right now, with commodities and inflation growing as fast as it is, people have not quite been able to price accordingly.

Derek Ball:

People are pricing right now. Everybody's taking pricing right now, but if inflation's eight and half and your price is three, obviously there's a gap there. So I think by the end of the year, you'll see EBITDA and margins start to improve from what they are immediately. If you're looking at say P3 or P2 or P4, I think you'll see that improve quite a bit throughout the rest of the year. But I wouldn't be surprised to see multiples soften a little bit, but we haven't seen it yet simply because we haven't had a ton of deals on the market during Q1.

Rick Ormsby:

What say you, Tony, run rate, EBITDA, multiples, that kind of stuff?

Tony Petrunin:

Yeah, we were talking about, you gave an instance a couple days ago where we had one of the two parties in a second round process, or one of a handful of parties walk away. I'd say the counterpoint to that is our strategic buyers are seeing right through all this stuff. Right? You've got people who are discerning, sure. But we had another second round process recently where we took a group of people to a second round, one of the prerequisites to being selected was the removal of a mechanism to reprice the deal, given the headwinds coming, we felt like it was the right thing to do. And we had one of the parties say, you're right. We won't reprice this yield no matter what comes our way because we're looking out 10, 15 years plus.

Tony Petrunin:

And Derek, you coined it so I'm going to run with it. Shameless plug here. I think that's why you want to hire an advisor like us. We make a market for you, but we also find the buyers who can generate those kind of terms in a period of this kind of uncertainty. Right? And so I think if I look at that point and I counter it with also what we saw in another deal, buyers are certainly being a little bit more discerning, but I would also say that there's some nuances there. The strategic buyers are able to see through this and quietly in the conversations I've had, I think a lot of people view the second half of the years being more promising.

Tony Petrunin:

To Derek's point, I keep hearing a lot of people and even the franchisors saying that they didn't even price their way out of commodity risk. Labor's a little bit more dicey, but with the prices and increases that they're seeing around themselves as hourly employees and crew, I've heard some operators saying that they're starting to see people come back. Now, it's a small amount of people. It's not a ground swell, but if that's a sign of what's more to come, I think back half of the year is going to be really great for EBITDA and deal making.

Rick Ormsby:

Yeah. Yeah. I've just come back from a couple of conventions in the last couple weeks really. And I can tell you that just from a broad perspective, the word on the street is it's going to be a tough couple of five periods or six periods until we get past the full impact of the COVID role. But then the back half of the year, there's a lot of franchisors that are really, really excited about what's going to happen or what they think will happen in the back half of the year, even adjusting for inflation. And the end of the day restaurant companies, it's about the quality of the food and service, right? And so lot of these brands have, at least that I've noticed are bringing new products to test and new ideas and new products and new delivery mechanisms to bear in the fall timeframe of this year, potentially.

Rick Ormsby:

And those are the kinds of things that create noise and create awareness and bring trial to the stores and can bring people in to try products at higher price points and higher margins. My concern, and I think you guys probably have it too. I eat at a lot at fast food because it's part of the job and it's part of who I am. The prices have gotten pretty high, haven't they? That worries me a little bit. I just got back, I've been to eight states in the last eight days, that's a lot of states, so I've eaten a lot of fast food and it's hard to get out of the fast food line under $10 now, even in the good old south. So I think that's something to keep a watch on.

Rick Ormsby:

But I think Derek and I want to go back to you here, and this is a little bit off script, but think about what happens and the notorious example would be wing prices, how they fluctuate so incredibly, but we're seeing a lot of wing deflation right now. And pricing really doesn't go down much or at all once an operator's commodities drop. So someone who might buy a business like this over the medium term, once commodities adjust, and this may be a while, maybe in a situation a year or two from now where they have just an incredible balance sheet and strong EBITDA, great income statements. What say you about that?

Derek Ball:

Yeah. And that fits in with somebody's question that they put up a couple minutes ago about marching compression and look, like I said a little bit ago, I'm not Nostradamus here, don't take what I say to the bank necessarily. But it's something to think about something to consider and form your own opinion on. Like Rick said, right now everybody's taking massive pricing. I had a client last year at the end of the year, take 15% pricing in one fell swoop and supposedly didn't see any degradation in traffic, which shocked me.

Derek Ball:

So everybody's taking pricing and obviously if things go down and we get into promo war or something in two years, that's always a possibility, but it's unlikely you're just going to drop your pricing on your menu boards. It's not very likely. So, everybody's taking pricing because labor's up, utilities are up. Cost of sales is up. Everything is up. Well, what happens when those start to normalize a little bit? You could expect potentially EBITDA to just skyrocket. If your margins are compressed by seven or 8% in the short term, I don't think anybody expects that to last five years. I think people believe it's going to be another year or two until things really start to ease up a little bit. And what happens when they do? Do you want to buy a business then, when EBITDA margins explode by 8%? Or do you want to potentially take a harder year or two? Don't breach any covenants or anything with your lender, but buy right obviously, don't just blatantly overpay for anything.

Derek Ball:

But I think there's an argument to be made that you rather buy now, hold for a year or two and rather be in the business when those margins explode rather than acquiring when they do. If you throw a, let's just use the 8% margin example, if this a six times multiple and you can expect to pay 50% more almost for those businesses when that happens. So look, I'm not predicting anything, but it's something to think about. I've mentioned it to a few people, it seems to hit home and makes them think a little bit, because I doubt if you raised a Taco Bell example, your taco to $1.69, it's unlikely you're going to drop it back to a $1.39 in a couple years, when commodities come down.

Derek Ball:

One example I hear and I'm not an airplane expert, and I'm surely not an airline industry expert. But I think it was back in '08, at least some of the stuff I've read when they started throwing baggage fees in there just to help the airlines get through that industry. I think I've heard that [crosstalk 00:27:48].

Rick Ormsby:

That sucks.

Derek Ball:

And guess what, gas went back down. Did they ever get rid of that? No gas was five bucks in '08 and then it dropped at $2 the next year and we still have baggage fees. So, something to think about in a couple years when costs hopefully, I say hopefully, come back down, EBITDA could explode and restaurants could be looking really pretty by then. So something to consider.

Rick Ormsby:

Yep. Yeah. Good point for sure. I'll pause for a second and look at a couple of questions here that have been asked.

Rick Ormsby:

Have we had any APAs walked away from because the bid ask spread? The answer to that, I believe unless you guys cut in and tell me opposite there differently, I believe the answer is no. We've worked out all of those so far within our limited examples over the past six months. Let's see. And then one was how would you determine the value or selling price and determine when the time to sell a franchise company is? Well, I mean the first question is an easy plug for Unbridled or an advisor like us. You probably want to ask someone who values restaurant companies and franchise companies every day. It is very dangerous to hear people talk about multiples and then to not know whether that multiple is applied to a post G&A EBITDA or an EBITDA with no G&A, how to handle upcoming CapEx, whether a deal has real estate or not, and if so, what brand and what locations of the country or size of the transaction?

Rick Ormsby:

And so when you hear someone say, oh, it's worth five times, EBITDA take your EBITDA times five. Just yesterday I was talking with probably a 30 unit operator, who's a friend of mine and he was telling me what he thought the value of his business was on a multiple EBITDA. And then I asked a couple of questions. He hadn't reduced it for G&A. It was just store level EBITDA. I'm like, oh, I mean like God, man. So you just got to be careful and it's really easy. I'll give you another example. I was sitting at a wedding in Birmingham, Alabama on Saturday and I have a family friend who comes to me and owns a dental practice and asks me, he says, well, my accountant tells me my EBITDA is a million dollars.

Rick Ormsby:

Let's just use an example of a million dollars. And so that means my business must be worth $5 million. What do you say Rick? Well, I'm not in this business, but I asked him, I said, well, what do you pay yourself? And he goes a $1,300,000. And I said to him, okay, so you're telling me you've got a business that generates $2.5 million in EBITDA without you, but a million dollars of EBITDA with your salary. Well, if you were replaced, would they hire someone in there at a million and a half dollars? No, probably 250 or 300,000. Well, to me, that business does $2.2 million of EBITDA and not a million dollars EBITDA and to me your business might be worth 10 or 11 million, not $5 million. Guess what? I was the most popular guy at the wedding. I mean to make a case in point. So I think you want to be careful about hearing what you hear in the marketplace and actually getting an expert's opinion on it.

Derek Ball:

We hear there's a lot of services out there that we respect and believe they get great information, but whenever you see multiple comps, be hesitant. I mean, there's a service out there that shows Taco Bell comps multiples between six and half and seven. And that's just so far off. So I have to assume other brands are going to be a couple of turns off potentially as well. So if you really want to know the value of your business, just call an advisor who does it every day and hopefully us, but call an advisor you trust that can give you a real answer. And be careful about people that are blowing smoke up your butt, just to sign you up for two years. So, hire someone that you think is telling you the way it is, especially with the changes in the market right now, if someone gives you evaluation on trailing through July 2021, well, I'd ask some questions because it's probably lower now to be perfectly frank.

Rick Ormsby:

Yeah. Yeah. Even if it's a year in 2021, with the changes that we've had in the first and second quarter. And then if you're a lender who's listening right now, I would kind of also say as you build, talk to your risk departments and your credit guys about how to price these deals from a debt perspective. We have to be looking at the entirety of 2022, not just the first four or five periods. And so that kind of goes into the comment of the optimism that most of the franchisors were exuding at the conventions in the last couple of weeks. So, that has to be a part of determining how much they're going to lend. Tony [crosstalk 00:32:37]

Derek Ball:

We expect negative comps potentially for another period or two, but we don't expect that through 2022. We expect that to start easy, not in P6 or so. Every business is a little different, but you see negative comps right now, don't just assume, well, heck I got to annualize that for all of 2022. You probably don't. Maybe you do, look at the business specifically. It's likely starting around P6, you'll start copying at least flat until last year. So obviously it's business specific, but if you see a couple bad periods right now, don't expect that to just be all of this year. It very unlikely will be.

Rick Ormsby:

Yeah. Onto Tony. Due diligence, what are we seeing? Any surprises going on the due diligence right now in some of the deals you're working on?

Tony Petrunin:

Yeah. So not a lot of surprises per se. What I would say is if you had asked me that four months ago to six months ago, when we were going into Q4 with COVID threats looming, it was really difficult to get real estate diligence pinned down to a reasonable timeframe that we're used to. Since then we've seen everything kind of let up. I think that correlates and coincides with just labor coming back in those businesses, number one. Number two, everyone kind of easing up COVID restrictions. So now we can say confidently with our timeline on deals that we're kind of back on track on estimates. Now I would say that's one thing.

Tony Petrunin:

Number two, I have seen at least lenders wanting to see through numbers a bit more than I have in other deals, which is, listen, that's understandable given that, think about it this way, to Derek's point that he just mentioned. May and April were arguably the two best months of all of QSR history, hands down. I mean, we've got clients who are up 30 and 40%. That's just a massive, massive increase. And so I think, again, all roads lead back to the second half of the year, but I think deals will kind of firm up, lending community will kind of get their arms around what steady state EBITDA looks like and things will be much smoother. But from a blocking and tackling perspective on real estate ops diligence, providers and lenders, it's been steady as she goes as if COVID never happened. So I think I feel really good about that. Makes it a lot easier for guys like us to get our hands around timetables and to commit to clients on something that we know we can get done. Whereas in Q3, Q4 of last year, real estate could have taken two or three times longer to get done, phase ones and phase twos. That's my read.

Rick Ormsby:

Tony, you see a little bit of the pace quickening with some of these folks? The real estate diligence, the franchisors, the lenders just because maybe there's not as much deal flow this year? And doesn't that feel nice? Doesn't that feel nice a little bit. I mean, I'm not so saying it's gone from eight months or seven months to two months. It's maybe gone from seven months to five and a half months or something or six months. Right.

Tony Petrunin:

I think that's fair. Right? I mean, listen, when a franchisor keeps the same head count and they have to 2X the amount of deals that are processing for last year, that was a tough pill to swallow versus now where that same team is managing a volume that they're really kind of sized for, let's just say. It makes a big difference, right. Whereas before we were doing transactions last year, especially late last year, you almost had to, get on an airplane and go to the corporate office to get the right amount of attention. But now it's a lot easier to get eyeballs on the right deals. Things are moving as they should be, Derek and I are very maniacal about our processes that we run in these deals. And so it's nice having some reciprocity when you're trying to reach out to somebody who's in control of a transaction that you're running. So for us, it's been nice to be back in the saddle fully.

Rick Ormsby:

Yeah, that's great. I'll answer this next one. Because we're maybe a question or two behind on time. Timing from deal, start to completion. Again, maybe we've sped up a little bit because resources into, like an example would be you have a surveyor, who's going to go survey a piece of real estate or a business. Well, he's got 75 other restaurants he's got to go survey at the end of last year. Now he only has 15. So instead of taking three weeks to get the report back, it might take a week and a half. The total time to start a deal to end it, it looks to me at the moment to be about six months from the time like you say to Unbridled, let's start a process to the time the deal closes.

Rick Ormsby:

And there is a variability between maybe five and a half and seven months and if it gets longer than that, the reasons why it would get longer is if there's a, let's say there is a new franchisee coming into a brand and there's a training requirement of some kind that may take an extra 60 days before the franchisor will actually prove the transaction. And we go through this with our clients, right? Because if you look at a stretch number of offers here, and one of them is, or two of them are from people outside of the system, we want to know how the system feels about the training requirements prior to closing and what effect that has on timeline, especially in an environment that's changing so much because time kills all deals, right? So these are things that could add extra time, but otherwise I'd say maybe think of a six month process as probably being pretty reasonable right now, a little faster than maybe it's been in the last six months or so. What about, how are lenders looking at QSR right now? Open question for both of you guys, what do you think?

Tony Petrunin:

I'll jump in. This is my perspective. Lenders have been calling and following up with me more than they ever have, which to me, I'm not anything special. I think they're looking for deal flow just like everyone else. So to me, that's kind of been a little bit of a leading indicator that there has been a drop off in deal flow versus 2021. But the communications I've had with them collectively as a whole, I don't want to speak about unique situations. There's been a lot of interest. They're still trying to put money to work. They're still bullish on these brands. There might be a little bit more discerning on certain brands that haven't performed as well or have been beaten up or are affected by a commodity price in a certain area, more than others. But broadly speaking, the level of interest is still there. And I think if you are a buyer right now, you're actually sitting in a very nice position when it comes to lending community, because I think there's fewer opportunities being chased and you have a little bit more leverage than maybe you had eight months ago, six months ago.

Tony Petrunin:

Which runs a little bit counter I think to what the perception out there is that, Hey, there's all these challenges out there, but at the end of the day, lenders need to put cash to work, right? Regardless of what might happen in a year or two with interest rates. And keep in mind a lot of these loans have a floating mechanism built into them too, right? So again, they just got to put capital work and they're still quite bullish on this space.

Rick Ormsby:

I've heard some whispers about out, potentially some banking groups reducing the amount of lease adjusted leverage that they put on these businesses in this environment about maybe 25 basis points or so. I haven't seen it on a wide scale, but I think there's some talk about that. The problem for the lenders who want to be more conservative, as Tony says, is just a lot of people in the space. I mean, my goodness, there are a lot of lenders in the space, so it's a supply demand thing. Just like it always is. There's a lot of demand. So supply, there's a lot of demand. So, okay, good question. Here's one, listen to this one, you ready?

Rick Ormsby:

Franchisors are increasing demands for many more new builds when approving a sale transaction along with more onerous restrictions in their relationship agreements with financial buyers. And they may exercise a right of first refusal to control the buyer. Any real time advice on how to handle these new hurdles and will franchisors retreat from these demands if it chills deal flow as a result?

Rick Ormsby:

What an awesome question, that is a killer question. And as I read the question, I know every word in between every word that he wrote, right? Because we've been living multiple deals that follow from this line of questioning. The one thing I will say. And then, I mean, I guess maybe Derek you're next on the list. So, both of you guys think about an answer that you might think, I think there's a change brewing in some brands where performance isn't as strong. So the nature of this question is definitely related to one particular brand, it's pretty tough on the amount of new units and territories you must build to get their approval. And also maybe getting jumping in the right and waiving the right of first refusal, but exercising it. But in other brands, maybe in other brands and two brands I can think of that maybe a little bit of the opposite is happening, where franchisors are looking at the situation and they realize that performance has been soft and they're going to have to maybe slightly change their thinking and who they'll approve for these transactions in order to accommodate maybe an increased future potential of franchisees that may sell.

Rick Ormsby:

And maybe what they perceive to be possibly a lack of buyers in those markets. So, I think the equation goes both ways, but will deals... I mean, I'll let you take that, Derek, will deals chill as a result if these new hurdles are introduced? What do you think?

Derek Ball:

Yeah, first of all, I agree with Rick, there are a couple brands out there that are softening their restrictions, not increasing them simply because they're looking to get really good operators in the market, even if those operators happen to be a few states away. So there are some brands that are getting real conscious on continuity with franchise or contiguous franchisee restrictions. If you're two states away, they see that as too far away for you to operate this other market well. So I think you're seeing franchisors just wanting the best operator in the market right now. And if that means, instead of on a 50 store deal, instead of 25 new bills, maybe they can only ask for 10. Then they're willing to look at that.

Derek Ball:

Last year in 2020, most brands were doing so well, those comps were going down a little bit. Some franchisors got in the middle of these deals, maybe a little more than most franchisees and advisors would prefer. And I think franchisees were getting pretty upset at some things over the last year. And I would expect those franchisees, once they voice their opinion to the franchisor loud enough and potentially group together, I would expect some of those franchisor restrictions and requirements to maybe decrease a little bit. At the end of the day, this is my personal opinion. Once a franchisor gets something in their head, it's that way or the highway.

Derek Ball:

So part of the question is any real time advice, how to handle these new hurdles. And my advice would be play as nice as you can, give them something they want, hopefully you get something you want. And most of these brands, people build as many new stores are going to be profitable as possible. It's printing money in QSR the last couple years, if you can build a good store. So why not build, if you can.

Derek Ball:

The question is really coming down to, can you build and still get a good return? I mean, is that market that's doing $2 million now, are there really another 30% of stores that can handle $2 million or are those stores going to do one too? And that's the question buyers and builders have to look at. Do I think franchisors will retreat a little bit if it starts to chill deal flow? Yes. The biggest thing I think that will make brands retreat is if it starts potentially killing deals and they start getting a lot of nastygrams from large franchisees and impactful franchisees. Because at the end of the day, I can do so much, but I'm not a franchisee. Brands don't have to answer to advisor, within reason. They don't have to answer to us, but they do have to answer to their franchisee systems. So if deals start getting killed because of these restrictions and enhanced requirements, if I was a franchisee, I would be upset. And I would probably voice my opinion. And that is when I think you will see these things start to chill a little bit and maybe drop back down to pre-COVID, a little more [inaudible 00:45:40] fear circumstances.

Rick Ormsby:

And these unification of the franchisees around this issue of we're getting onerous restrictions on transfers of my neighbor down the street and it impacts the value of my business. It takes a while for that to build up because the person who has to contest that really is the person who's selling their company, right. And the person who's selling their company's kind of on the way out. And it's kind of like one of these things where it's almost like having the death tax. You die and then all of a sudden on the way out you get whacked with the tax you can't control. So it takes a while to unify the franchise system and for people to realize it. We don't mention brands here, but I can tell you if you're a franchisor, that's listening to this. And I know franchisors do listen to this, I just recommend being a little cautious, because I can tell you with a cocktail and not in writing, I can tell you several brands that did and have taken crazy prolonged approaches to slapping huge development obligations on transfers.

Rick Ormsby:

And it is true that in the short term, you've got people signed up for deals that they probably weren't fully expecting to adhere to. And in the longer term, it chases buyers away. And as a franchisor, what you need to realize is your brand ain't that special. Now there are a couple of brands that really are special, but today's buyers, especially the financial buyers and the private equity and family office groups. They're looking at four different burger chain deals at the same time, realizing that they're only going to invest in one of them because of non-compete issues. They're not overly interested in your brand. I mean, that's the reality. They might like your brand, but they like other brands too. And so you have to realize that what goes around comes around, don't get too big for your britches asking too much because it may end up hurting you if your brand stops performing well down the road. Reasonability is always a good thing.

Rick Ormsby:

Okay. Are buyers changing? How about the types of buyers? Are we changing in the market now? We've had a lot of change in the P and Ls in the last four or five months, what types of buyers are we seeing, or are they the same?

Derek Ball:

I don't know if they've changed a ton in the last year or two. I think it's been a study shift to more financial buyers, private equity firms, family offices, people in a sense using other people's money in a way when you talk to kind of, and I say mom and pop, you could be a hundred unit mom and pop, but franchisees have been in system for 30 years and it's really their family money. And it is their own personal guarantee on everything. And it's their livelihood and they've built it from the start. That's what I mean by mom and pop, not necessarily a one or two unit franchisee, but they're the ones a little more cautious, it's coming straight out of their pocket. It's coming straight out of their potential retirement or legacy for their family.

Derek Ball:

They're a little more hesitant to want to pay these big prices. The prices are so high right now that the people that it makes more sense for are the financial minded guys that in a sense are kind of using someone else's money and they owe them a return and it's not coming fully out of their own pocket. Obviously they're incentivized properly. But so I think you're seeing not really a shift, just a continual trend toward, at these high prices, the people that can really afford them are going to be the financial buyers, the PE firms, the family office guys. And the mom and pop guy down the street, he sees it and it's just not worth it to him. It's too big of a risk to potentially risk a great business with a lowly adjusted leverage if he even has any debt potentially to take on a bunch of new stores at a really high multiple, and potentially crater some of his other business that he's worth so hard to build. So it's just naturally the pricing, some of the more mom and pop guys are just kind of getting priced out of a lot of these deals. I think I only have a couple deals in the last couple years that haven't gone to a more financial minded buyer. I can only think of a couple off the top of my head.

Rick Ormsby:

Well, conditions change though. And if they do worsen a little bit, I think you might see a shift in the type of financial buyer. So the financial buyer is the guy or girl sitting in a tall building in New York with the spreadsheet and a lot of money buying assets. You have the mom and pop buyer who might be a 30 unit franchisee that's nearby to the stores for sale and has been in the business for 20 years. And then you might have someone in between who might be a two or 300 unit franchisee and in the brand, or in a series of brands that might have money from those folks in New York City. But also they have the capabilities and the know-how to come into a business that might be declining in sales and profits and see through modeling out the next eight months of EBITDA. And that type of group may be the group that probably zeros in on this market in the next several three, four or five months potentially, or if things maybe worsen. What do you think Tony, got a thought?

Tony Petrunin:

Yeah. I mean, I think it's a little bit contrarian, but it's a mindset shift. Derek touched on it, Rick, you touched on it. I think the acquisition mindset of, don't want to use the word mom and pop again, but kind of the legacy buyer, the one who's been in this business for a long time, second or third generation, it's a preservation and very strike price sensitive buyer. Whereas the financial types, they understand that there's still levers out there for them to pull to right size a deal. So maybe the multiple's still high, maybe there's some uncertainty, but cap rates are still great, so they can perform a sale at least back after the close and still effectively get a pretty good price deal. Right? That's one thing.

Tony Petrunin:

They might look at the current interest rate environment, say, my gosh, that is cheap enough right now, let me secure as much as possible because I'm going to keep growing and growing. And today it may be commodity risk, but tomorrow could be financing risk with the interest rates expanding, right? So in their minds, there's always going to be some risk there, but let's just manage it and enter. Whereas I think some of the traditional entrepreneurs in this space are a little bit more hesitant to jump into something that's not maybe as perfectly set up as prior decades in the past. So I've seen that quite a bit. I do think the family offices, if we do start seeing something more turbulent coming down the pike, the ones who are strategic buyers and very long term oriented will see through all this and still be active. There's always going to be this fundamental layer of M&A that's going on. Certainly they'll adjust with multiples in what the environment around them is telling them is the right price. But I don't think they're as sensitive. I can think of two recent occasions where we had strategic buyers and all these concerns about what's happening around us. We just weren't there, when you size them up versus other bidders. And so I think that's going to be more and more prevalent.

Derek Ball:

I think, piggybacking on Tony's comment, I am personally and I think most of us, me and Tony and Rick here, I'm laser focused on restaurants. If I'm researching something in the market, it's restaurants probably mostly QSR. The one thing about private equity and family office guys, they look at everything. Those guys are doing M&A all over the place. So they still look at restaurants is a pretty investment, I think, compared to a lot of other industries, pretty stable, even if it seems unstable and EBITDA dropping and going up all this and that. Compared to a lot of other industries, it's fairly good. So they're looking at a lot more things than even me personally, or maybe most people even on this call would be looking at.

Derek Ball:

So, they see a six and a half time multiple, and it's not that bad. A mom and pop who's used to paying four and a half, five years ago, they're looking at that now. They're probably also just focused on restaurants and even more specifically, probably just a brand that they're in really. And they're going to look at it as five years ago I could buy it for four and a half. And now it has to be six and a half, I'm going to wait for it to drop back to four and a half. Heck it might never drop back to four and a half because five years ago, the PE and family office guys weren't in the business yet. Naturally speaking, those are the groups that have most pushed the multiples from four and a half to six and a half over the last five years. We might not ever go back to four and a half times multiples in the brands that I'm talking about, obviously you can find deals out there at that price, but prices are up, I think because of the massive influx of money into the QSR industry.

Derek Ball:

And I can't predict the future. Maybe it goes back down in 10 years maybe, but it might not because those guys might still be in the business. So that's another reason they're pushing the prices up. And a lot of long time guys are just like, man, I could have got it for two times less five years ago, and I'm going to hold out for the next time that happens. Well, guess what? It might not ever happen. I don't know.

Tony Petrunin:

I agree, completely agree. I would say another Unbridled indicator, if we could start coining that, is the amount of cold calls we have from private equity groups and family offices wanting to learn about this space, get on our CRM database from where I sit has not let up. So at least two or three to times a week, I'll get a random ping, a call. Somebody saying, "Hey, I hear this is where the action is effectively. I want to learn more about it. Can you educate us?" And we're still seeing that. Now the day that stops we'll get on here and I'll probably have a conversation about it, but I think that's still there. And that's a big driver of to Derek's point, the multiples being elevated for some period of time. And I just don't see that changing. I think these secrets out on restaurants and I don't see it changing either. I really don't.

Rick Ormsby:

One question, a couple of comments, and then we'll have one final question. We can all talk about. I saw a question come in here about family offices. So family office think about a wealthy person throws their money into a bucket, hires a team to invest the money. Typically the money is held and owned by one family. Not always, but typically. And that one family doesn't typically have an LP relationship where they have to sell the investments that they buy within a prescribed period of time, long term investors. Private equity funds, on the other hand, there's typically a limited partner, a bunch of limited partners and a general partner. They raise money from multiple sources. The bucket's full of money from everybody. And then they go and invest the money. It's usually a window that the money has to be returned to the limited partners.

Rick Ormsby:

Maybe it's five years, maybe it's six years, maybe it's seven years, maybe it's four years. And so the private equity groups are mostly, not always, but are mostly going to be interested because of the returns they're trying to generate in a short period of time in deals that will yield multiples of what they bought it for. And it usually takes them away from restaurant companies, not always, but usually. Family offices on the other hand have a longer time horizon, look, like these gentlemen have been saying, at the restaurant business as a nice cash business that might be hitting a single or maybe running out a double and sliding into second base that could be accommodating to the other companies that they have over a longer period of time.

Rick Ormsby:

Okay. A couple of things, cap rates, I'll just quickly talk about cap rates. Cap rates move like interest rates do, but with a delay. A lot of real estate deals are probably looking to get fiercely completed right now, with lenders looking to back away or change their terms because the interesting rates have been rising. Cap rates are still very, very competitive, but you can expect over the next three to six months, you'll see them moving in concert with the change in interest rates. And so it'll be a pretty big difference in the way real estate is priced as interest rates go up. The supply demand factor is still there on small pieces of real estate purchase, where people are doing 1031s and they're using all cash, but where there's a significant amount of financing, all it is a spreadsheet model to look at what your returns are and that cash outflow and then the cash inflow. So you should expect cap rates to move like interest rates with a bit of a delay. And then also let's see, I had another one.

Rick Ormsby:

Oh, when you get into a changing environment, a shifting environment where there may or may not be certainty in the trailing 12 month financials and things may be going down a little bit, I think you start introducing these old guy terms that I used to talk about when I was these guys' age, which is earnouts and seller financing, mezzanine financing, and some of these alternate ways to get a deal done between buyers and sellers. I don't expect we'll see a huge shooting of it right away, but it was a factor back in '08, '09, '10 and '11. And I think you're probably going to start seeing that happen a little bit where there's bid ask difference between what a seller wants and what a buyer will pay. It may take a little bit of time to get there, but we may see that in the back half of the year or next year, if we had a recessionary environment.

Rick Ormsby:

The last question for the day is this, ready? And it has to be 30 seconds. Positive reasons to sell now? What's the reason why you would sell your company now?

Derek Ball:

Are you asking us?

Rick Ormsby:

Yeah.

Derek Ball:

So just real quick, a lot of our clients have this mentality. They loved coming to work before COVID. They loved their people, which they still do, but they loved coming to work before COVID it was pretty stable. COVID hit, the last two years have been probably 20 years of stress on most of our clients. They made a lot of money. EBITDA was up, pricing's really high, but it was really difficult, grading them overnight. And now that's all over, they're just kind of taking a step back saying I have the money that I need probably for a few generations and you know what, I'm going to enjoy it. Our average clients are in their 60s, 70s. We're not usually selling 35 year old guys this company. That's not our bread and butter, what we normally do. So most guys are just, and gals are just saying, look, it is time for us to step back. There's a new generation looking to own and I'm tired. And that is 90% of our clients in a way. Everybody's slightly different, but that's a pretty common sentiment.

Rick Ormsby:

Yeah. Good [crosstalk 01:00:06]

Derek Ball:

Prices are still super strong. I mean, they might not be as high as they were nine months ago, but they're still way higher than they were in 2019. So, it's not like you missed the boat. Prices are still up there.

Tony Petrunin:

Yep. I think that's right. I couldn't agree more. On a two year comp basis, the business is still really attractive. It's the exit point is still great. And I'm sure a lot of them never thought of making this kind of money off their business, that's one. Derek talked about the micro more of like the emotional wear and tear on the mindset of these operators. But at macro level, I mean, I don't have to list all the things that are sitting out there that are a little bit concerning, right? But there's a lot of things coming down the pike. And if you're thinking about, or considering a sale in the next three years, I think it'd be pretty wise of you to consider a sale now. And why would you try to see through possibly a recession, inflation, who knows what happens with Ukraine? I mean, I can go on and on, right. It could be a whole call in and of itself. But I think those are between the micro reasons Derek mentioned and the macros I just had, I think it's a pretty compelling reason to leave if you are considering retirement.

Rick Ormsby:

Couldn't agree more guys. Wonderful discussion. Thank you for everyone who joined in to watch. And for those of you who are listening on the Restaurant Boiler Room podcast, we'll be back at it here again soon. And just so thankful for everyone in this industry, man. And I just wish everyone the very best. Let's go get them, let's make it the best customer experience that we can, store by store, property by property. Thank you guys so much.

Tony Petrunin:

Thanks everybody.

Derek Ball:

Thank you everybody.